The ongoing valuation dispute between the owners of the Trans-Alaska Pipeline System (TAPS), on the one hand, and state and local governments, on the other, is a classic case of trying to make real-world sense out of vague legislative directives. Each of the three parties has a different approach to valuation and each technically conforms to the statutory mandate directing how the property should be valued for tax purposes. So far so good.

The essential dispute centers on which of the three approaches should be used to place an assessed value on TAPS. The essential problem is that all three approaches are at least somewhat plausible.

In brief, the state argues that TAPS should be assessed at a value determined by a method called "replacement cost new less depreciation" first introduced in 2005.

In contrast, the owners and the municipalities each argue that future income should be estimated to determine the value of that income stream (technically the present discounted value). However, the owners and the municipalities differ as to whether or not income from the oil fields themselves should be considered. The municipalities want oil field income in. The owners want it out.

THE CITIES' METHOD

To choose among these one must first understand what is to be measured. The almost universally accepted way to value any property for tax purposes is to determine by one means or another what an informed prudent buyer would pay for that property in an arms-length transaction. Even though this is almost always the same as the value to the current owner, important exceptions exist. One such exception is operative here.

The municipalities' case should fail because it leans on the premise that the value to the current owner is the relevant concept and not the value to an informed prudent buyer. The municipalities define income to include that from upstream wells and facilities. But why should sale of TAPS in an arms-length transaction be assumed to depend on income from upstream wells and producing facilities when a buyer who is not a producer cannot realize any of that income? Shares of TAPS as a stand-alone entity have been sold in the past, for example the 2004 sale by the Williams Companies to current owner Koch Alaska Pipeline Co. of the share Williams bought from Exxon Mobil in 2000.

THE STATE'S GUESSTIMATE

There are two problems with the state's method: replacement cost new less depreciation. First, both the estimate of replacement cost and the estimate of the amount of depreciation that needs to be deducted are really just informed guesses, particularly the latter because it differs from depreciation on the books (accounting depreciation) in that it depends upon the assessor's judgment as to the system's physical condition.

Second, the replacement-cost approach is not conceptually well suited to the task. It works best when considering investments such as a bookstore whose owner is going out of business. An informed prudent buyer who has the option of building or renting another bookstore just down the street would pay no more for the existing store than replacement cost plus goodwill.

THE INFORMED BUYER

In contrast, the owners of TAPS are using a method that seeks the value to an informed prudent buyer by putting values on future tariff income. Provided that it is based on reasonable projections of the variables and also places a reasonable value on the regulated rate of return, it is difficult to find fault with the estimate of value that follows from its use.

Even so, this method ran into trouble in a 2006 determination by the Regulatory Commission of Alaska, the state agency that decides the fee for shipping oil through TAPS for in-state use. The RCA said there was no evidence that the owners would be willing to sell their interest to a third party who was not also a North Slope producer. But then what about Exxon's sale of a share of TAPS to the Williams Companies in 2000 (albeit forced as a part of the Exxon-Mobil merger)? That share was then sold by Williams to Koch of Wichita, Kan., in a 2004 arms-length transaction? In the face of these sales, the argument by RCA that ruled that such a sale was implausible would seem to strain the definition of implausible.

TAPPING A DEEP POCKET

So of the three methods of evaluation, one incorrectly (I think) incorporates upstream income into the evaluation of TAPS and another requires considerable informed guesswork on the part of the state pipeline assessor and whoever provides the estimate of replacement cost. The third satisfies the statutory requirements defining an appropriate method and also embodies the generally accepted view that value to an informed prudent buyer (as opposed to the value to the current owner) is what is to be measured.

What may be at the root of the problem is that the state and municipalities are seeking new revenue and are taking aim at TAPS because there are precious few other places to look. That may cost Alaska in the long run because once again the state is courting an image of a player who changes the rules after the bargain has been struck.

Disclaimer: I have not discussed this issue with the owners or their representatives. I have benefitted from talks with state employees.

David M. Reaume is a Washington state-based economist who was based for many years in Juneau. His opinion column appears monthly in the Anchorage Daily News.

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